Comparing multiple Loan Estimates from different mortgage lenders can help save money.
But as you review loan estimates, don't focus only on the interest rate. Instead of comparing interest rates, it's best to compare the annual percentage rates (APRs).
The APR reflects the total annual cost of a loan.
What are APR costs?
When comparing home loans across lenders, many hopeful buyers look at interest rates.
But to compare borrowing costs more accurately, you should review annual percentage rates, or APRs.
APRs show the total annual cost of your mortgage, expressed as a percentage of the amount borrowed. Mortgage APR includes the interest rate and also covers other expenses, such as underwriting fees and discount points.
Some home loans are fixed-interest APRs, while others have an adjustable APR:
- Fixed APR: With a fixed-rate mortgage, your APR stays the same throughout the loan’s term. For example, if you get a 30-year fixed-rate mortgage, the APR won't change during the 30-year term.
- Adjustable APR: With an adjustable-rate mortgage, your APR varies. You'll start with an introductory rate. Once the introductory period ends, your rate will adjust. Your APR may also change periodically.
As you explore mortgage finance solutions, ensure you understand how the rate functions.
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The difference between interest rate vs APR
Your loan's APR and interest rate aren't the same, so let’s dive into the differences between home loan APR vs interest rate:
The mortgage interest rate is the amount your lender charges for borrowing money. Your interest rate is expressed as a percentage of the loan’s principal, or amount borrowed and only reflects interest costs.
Meanwhile, the APR is a broader measure of the total annual cost of your mortgage and is expressed as a percentage. APR combines the interest rate with other charges related to borrowing, like discount points and mortgage broker fees.
As you collect loan estimates, be sure to compare each loan on an apples-to-apples basis. Reviewing the APRs for each loan will enable you to compare the full cost of borrowing, instead of just the interest charges.
You should also verify that the loan type and loan term match.
For example, if you want to get a 30-year fixed-rate home loan, gather multiple loan estimates for 30-year fixed-rate mortgages.
How does APR work on a mortgage?
The interest rate plus other upfront charges associated with borrowing money from your lender are included in the APR calculations. Since your mortgage APR consists of more than interest, it’s higher than your interest rate.
A pre-approval from Better can show your APR in as few as three minutes.
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What fees are included in the APR for a mortgage?
To understand how APR works on a mortgage, it can be helpful to learn more about some typical APR costs.
Here are some expenses that may be included in the APR for your mortgage:
- Closing costs: Not all closing costs are included in the APR, but some closing expenses, like loan processing fees, administrative fees, and underwriting fees, are.
- Mortgage points: Also known as discount points, are optional fees that borrowers can pay to lower their interest rate for the life of their home loan.
- Private mortgage insurance: Private mortgage insurance (PMI) costs, which you may be required to pay if you don't make at least a 20% down payment, are typically included in the APR for a home loan.
- Prepaid interest: At closing, it's standard to pay some expenses in advance. For example, pay prepaid interest charges for the period between when you close on your home loan and when your first mortgage payment is due.
Which fees aren’t included in the APR for a mortgage?
When you finance a home purchase with a mortgage, some expenses aren’t included in the APR. Here are some examples:
- Appraisal fees: Before you close, you’ll need an appraisal to assess the value of the property you plan to buy with your mortgage.
- Attorney fees: Any real estate attorney fees that you pay aren’t included in the APR.
- Credit check fees: Lenders charge a credit check fee to pull your credit report.
- Property survey expenses: Some buyers invest in a property survey before purchasing a home to verify property boundaries.
- Home inspection fees: If you choose to have a home inspection done, you'll pay fees to the inspector. Third-party fees aren't included in your mortgage APR costs. If you decide to have a home inspection done, you'll pay the inspector directly.
- Property recording fees: Many counties charge property recording fees, such as a fee to record your deed.
- Property taxes: Property taxes may be included in your monthly mortgage payment, but they’re not included in your APR.
- Homeowners’ insurance premiums: Mortgage insurance premiums are included in the APR for a mortgage, but homeowners’ insurance premiums aren't.
How to calculate your APR to find your loan’s true cost
Your lender will calculate your APR. The Truth in Lending Act (TILA) requires lenders to disclose APRs. You’ll find APRs listed in loan estimates and closing disclosures.
But it’s possible to calculate your mortgage APR yourself. Doing this can help you determine the total borrowing costs for your loan.
Here's how to calculate the APR for your mortgage:
- Add up all interest and fees for your loan.
- Divide that number by the loan amount.
- Multiply that number by 365.
- Multiply by 100 to convert the APR to a percentage.
How to find and lower your mortgage APR costs
Want to find a home loan with lower mortgage APR costs?
Here are some strategies that could help you lower your mortgage APR costs:
- Gather Loan Estimates from multiple lenders: Shopping around for a mortgage loan could help you reduce APR costs. It's a good idea to collect loan estimates from at least three mortgage lenders. As you review your loan options, be sure to compare mortgage APRs.
- Request a line-item breakdown: When collecting mortgage estimates from lenders, ask for a line-item breakdown. This will help you compare all lending costs. You may be able to negotiate some costs, like loan origination fees, which could help you reduce your mortgage APR and save money. Better’s loan estimate makes it easy to see the full APRbreakdown.
- Buy discount points: Buying mortgage points can help you reduce your interest rate and APR. If you plan to own your home for many years, this can be a beneficial option. Discount points are fees that you pay to your lender to reduce your APR and mortgage payment amount. One mortgage point typically costs 1% of your loan amount. Be sure to do the math to determine if buying discount points is a good long-term financial strategy.
- Increase your credit score: Your credit standing and credit score can impact the mortgage rates you qualify for, so it's beneficial to consider whether you might benefit from spending time improving your credit before you talk to lenders.
- Reduce your debt: Your debt-to-income (DTI) ratio can impact the interest rate you qualify for when you apply for a home loan. Reducing your debt can help lower your DTI, which in turn may help to reduce your lending costs.
- Make a larger down payment: You may be able to reduce your mortgage interest rate and APR by making a larger down payment. Since you’ll be borrowing less money, lenders will likely view you as less of a risk – and you may qualify for a lower interest rate and APR.
APR costs FAQ
Here are some answers to commonly asked questions about APR costs:
Are APR costs the same as closing costs?
APR costs and closing costs aren’t the same thing. APR costs typically include some closing costs, like loan origination fees, discount points, and PMI. Other closing costs, like attorney fees, appraisal fees, and title insurance, aren’t included in mortgage APR costs.
Can the mortgage APR change before closing?
Yes, the APR for your mortgage can change before closing. Your APR can change if your interest rate changes or for other reasons, such as changes in market conditions or fluctuations in your credit standing.
How do APR costs differ on ARMs vs. fixed loans?
With a fixed-rate mortgage, the APR remains constant throughout the loan's term. But adjustable-rate mortgages differ. Typically, ARM home loans begin with a lower introductory APR that later changes. APRs for ARMs can change periodically.
What’s a “good” mortgage APR right now?
Many factors influence the APR you're eligible for when getting a mortgage. For example, the market, your credit score, and your debt-to-income (DTI) ratio. Mortgage APRs vary from one loan or lender to another. To reduce your mortgage APR costs, the best approach is to compare multiple home loan estimates from different lenders.
APR can help you understand the true cost of your home loan
Before securing a mortgage, it's essential to understand the annual cost associated with it. Recognizing all the expenses associated with borrowing will empower you to make a more informed decision and select the right mortgage that suits your needs and budget.
When comparing loans from different lenders, pay attention to the APRs. Simply looking at mortgage interest rates isn't enough. However, comparing APRs will provide insight into the long-term expenses of borrowing, beyond just interest charges.
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